When you hear “retirement plan,” your mind probably jumps to the trusty 401(k) — the favorite sourdough bread of retirement planning. But what if there’s a different type of bread – perhaps pumpernickel – on the menu? That’s where nonqualified deferred compensation (NQDC) plans step in. These plans bring something different to the table, especially for businesses looking to offer standout benefits to high earners or key employees.
But pumpernickel isn’t everyone’s cup of tea. We’ll break down the pros, the cons, and everything in between so you can decide if a nonqualified plan is the right choice. Oh, and by the way, this just happens to be EGPS’s jam. We design and administer these plans like true artisanal bread makers of the retirement world (yeah, we’re going to keep baking with this analogy).
What is a nonqualified plan?
Rye, we’re glad you asked! Nonqualified deferred compensation plans are agreements to set aside pay today to be earned at a later date, subject to certain requirements. Unlike their 401(k) counterparts, these are not subject to the strict rules of the Employee Retirement Income Security Act (ERISA). Translation? You don’t have to offer the same plan to everyone on staff. Think of it as an exclusive backstage pass to employee benefits—it’s reserved for top executives or key team members to get extra dough. In fact, these “top-hat” plans can only be set up to benefit a “select group of management or highly compensated employees.” It’s important to note that these plans benefit key employees and rarely provide tax benefits to business owners, unlike a typical 401(k) or other plan.
Pros of sponsoring a nonqualified plan
1. Retain and Reward Top Talent
High-performing employees are the lifeblood of businesses, and keeping them happy isn’t easy in a hyper-competitive job market. NQDC plans are a golden carrot (or loaf), offering standout benefits that scream, “We value your contributions.” They can also act as “golden handcuffs” for employers, encouraging employees to stay with the business or risk losing this benefit.
2. Customization Galore
Employers may want to reward VPs with one type of NQDC plan and execs with another, and that’s fine! Unlike traditional plans, NQDC plans can be tailored to specific groups or individuals, making them a versatile tool in your benefits arsenal/bakery.
3. Boost Employee Contributions
A traditional 401(k) only goes so far for high earners. An NQDC plan allows key employees to save more dough for retirement while deferring taxes on the income they contribute until retirement. It’s a win-win for employees focused on building long-term wealth.
4. Stay Competitive
Last but not yeast, it’s not just about beanbag chairs and free cold brew anymore. When competitors offer flashy executive benefits, NQDC plans can help keep employers ahead of the game, showing high-value employees they know how to play for keeps.
Cons of sponsoring a nonqualified plan
1. Administrative Complexity
Designing a good NQDC plan isn’t simple. These plans require careful customization, compliance oversight, and a sound understanding of tax implications. (Hint: Crust us, this is why partnering with experts like ahem us, EGPS, is a good move.)
2. Lack of Security
Here’s what can take the rise out of the dough for participants: NQDC plan contributions are not protected by ERISA. If the business faces a bankruptcy or financial hiccup, those funds could be at risk. It’s one of the trade-offs employees have to weigh, and it can feel crumby.
3. No Immediate Tax Deductions
Employers don’t get an immediate tax deduction for NQDC plan contributions the way they do with traditional plans. Thinking, “come a-grain?” Yep, you read that right. Those deductions only kick in once employees actually receive the payouts.
4. Limited Appeal
Since no more than 10-15% of employees can benefit from an NQDC plan, this might feel a little too exclusive to drive overall benefits satisfaction among the broader team. There are butter options.
Who is a good fit?
If employers are looking to attract and retain high-caliber talent who need more than the standard retirement package, these plans could be a good option. NQDC plans can help companies stand out as an employer of choice, and they’re especially valuable in industries where top talent desires to contribute above the usual 401(k) limits. Like pumpernickel, these plans aren’t for everyone, but they can be a great fit for those looking to retain key employees.
How EGPS can help
Designing and managing an NQDC plan doesn’t have to feel like attempting a starter, only to see it fall flat. At EGPS, we bring decades of experience in designing and administering custom retirement plans for businesses of all sizes. From figuring out the fine print to ensuring compliance, we rise to the occasion.
Think you might need help creating the perfect nonqualified deferred compensation plan or want more info on the various NQDC plan types? Drop us a line below and we’ll reach out with our NQDC plan cheat sheet and answer any questions you may have. We’re here to help!
